Pros, cons of paying car loan with HELOC

Dear Debt Adviser,
Are there any advantages to paying off an auto loan with a home equity line of credit and if there are, what are they?— John

Dear John,
Yes! No! Both? With the possible exception of New York-style cheesecake, everything I know has its pluses and minuses. OK, too much cheesecake can give you clogged arteries, but one piece is sheer bliss!

As with most other things in life, paying off your auto loan with a home equity line of credit, or HELOC, has its positives and negatives. So that I don’t spoil my cheesecake high, let’s deal with the positives first.

The first advantage of using a HELOC to pay off the loan is that you have the flexibility to shorten or lengthen the time it takes to pay off the loan. Most car loans are for a set duration of three to seven years. A HELOC typically has a longer period to repay — between 10 and 15 years. The choice will be yours to pay it off anytime during this term.

The second advantage of using a HELOC is that you can opt to make interest payments only on the amount you have borrowed from the line. This can lower the payment and stress on your cash flow during tight times. You also could repay the HELOC quicker if you have the funds, thereby paying less in interest charges by increasing your monthly payment.

If you need help to determine how much you would need to pay per month to retire the loan by a specific date, use one of Bankrate’s calculators. You will need to know the interest rate you are paying, the balance of your HELOC and the time frame you have in mind for it to be paid in full.

Another advantage of paying the car loan with your HELOC is the tax advantage. The interest paid on your HELOC is normally tax-deductible, and the interest on your auto loan is not. Keep in mind that the deduction will make a difference only if you itemize deductions on your tax return. If you take the standard deduction, the tax advantage no longer applies.

Now for the negatives. First, the loan is usually a variable interest rate loan that may change — as in go up — monthly. Second, if you don’t aggressively pay down the amount you borrow from the HELOC, that loan could outlive your car. This could result in you paying on the HELOC while having a new loan for your next vehicle.

Additionally, adding the car loan amount to your line of credit balance decreases the amount of equity available in your home and could be a problem should you need to sell your home unexpectedly. You might become “upside down” in your mortgage if your home value decreases to the point that you owe more on your first mortgage and HELOC than a realistic sale price would bring for the home. Being upside down in a car loan is uncomfortable, but it can be much more serious in a home loan.

Before moving forward with borrowing from your line, I would recommend that you determine the current market value of your home, or what you could realistically sell it for if you were offered your dream job in a faraway city. Once you know the real value of your home, the next thing to consider is how stable the housing market is in your area. Declining prices could decrease your available equity quickly.

On balance, using a HELOC can be a great tool to finance a car. But as with any loan, be sure you know the terms of the loan, don’t overleverage yourself and don’t carry debt any longer than it is in your best interests to do so. And don’t forget to save some cash for that piece of cheesecake!

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